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Annual Report 2013 - Chapter 3

The Prudential Framework

The prudential framework in Australia, as has been widely acknowledged, has been a critical underpinning of the resilience of the Australian financial system through the global financial crisis and its continuing aftershocks. This has been recognised, most recently, by the International Monetary Fund (IMF) in its 2012 Financial Sector Assessment Program review of Australia (see below). The IMF noted that the robustness of the Australian financial system was ' part due to the relative concentration of the system on a well-performing domestic economy, but also due to a material contribution from a well-developed regulatory and supervisory structure.'
These underpinnings were largely in place and working effectively before the crisis erupted. Repair was therefore not an APRA priority, but reinforcement has been. The crisis taught that prudential frameworks globally needed to be substantially strengthened to ensure that financial institutions will be better able to withstand future stresses, and to do so without the need for extraordinary government support. Australia must learn from the harsh lessons of others. Accordingly, over recent years APRA has pursued a substantial prudential policy workload, both global and domestic in its origins, that will when complete further 'shock-proof' the Australian financial system. The heaviest phase of that workload, which has covered all APRA-regulated industries, has now passed.
The global reform agenda of the G20 Leaders has largely dictated APRA's prudential policy priorities for the ADI industry. The main objectives of that agenda relevant to APRA are a strong prudential framework for banking systems built on much higher quality and quantity of capital and liquidity buffers; addressing the 'too big to fail' problem by reducing the risks posed by systemically important financial institutions; and more robust recovery and resolution arrangements for financial institutions in distress. The agenda also envisages transparent international assessment and peer review.
The G20 Leaders' broader agenda addresses contagion risks in over-the-counter derivatives markets and risks arising from shadow banking. Policies in these areas are largely the province of other financial regulatory agencies in Australia but, where the policies have implications for APRA-regulated institutions, APRA participates in policy discussions.
Strengthening the prudential framework for ADIs has centred on the Basel Committee on Banking Supervision's program of capital and liquidity reforms (Basel III). The main elements of the capital reforms are now in place in Australia and APRA's implementation of the liquidity reforms has made good progress; however, some elements of both reforms remain to be finalised by the Basel Committee. A framework for dealing with domestic systemically important banks has been endorsed by the G20 Leaders and has been added to APRA's prudential policy agenda.
In line with the global reform mandate, APRA is also now subject to greater external scrutiny of its adherence to global standards and the rigour of its supervisory approach. APRA had a significant involvement in the IMF's Financial Sector Assessment Program review of Australia, which reported in November 2012. During 2013/14, APRA's implementation of the Basel capital framework will be subject to peer review by other Basel Committee jurisdictions as part of the Basel Committee's Regulatory Consistency Assessment Programme, which involves assessment of the content and substance of a jurisdiction's bank capital requirements and their consistency with the requirements of the Basel framework.
APRA's prudential policy agenda that is domestic in its origins has involved three main initiatives. The first, now complete, is the updating and harmonisation of capital requirements for general and life insurers. The second, now largely complete, flows from the Stronger Super reforms and involves a substantial enhancement to the prudential regime for superannuation, based on APRA's new prudential standards-making powers. The third is the development of a prudential framework for conglomerate groups and, related to this, a harmonisation and enhancement of APRA's requirements for risk management. This initiative is well advanced.
Authorised Deposit-Taking Institutions
Strengthening capital requirements
The four key milestones for APRA's implementation of the Basel Committee's capital reforms are:
  • enhanced ADI capital requirements against the risks arising in trading activities, securitisations and exposures to off-balance sheet vehicles (so-called Basel 2.5) came into effect from 1 January 2012;
  • measures to raise the quality and minimum required levels of capital came into effect from 1 January 2013. Central to these Basel III measures is a new definition of regulatory capital that gives greater weight to common equity, the highest form of capital. The measures also strengthened capital requirements for counterparty credit risk exposures arising from derivatives, repurchase transactions and securities financing activities;
  • a capital conservation buffer above the regulatory minimum capital requirement that can, under certain conditions, be drawn down in periods of stress will come into effect from 1 January 2016. From that date, APRA's capital requirements will also allow an additional countercyclical capital buffer to be imposed on all ADIs in circumstances where excessive credit growth and other indicators point to a build-up in systemic risk; and
  • a non-risk-based leverage ratio is scheduled to be added to minimum capital requirements from 1 January 2018. This measure is intended as a simple backstop to help contain the growth of leverage in the banking system and to provide additional safeguards against model risk and measurement error. The leverage ratio is currently in parallel run and detailed specifications and associated disclosure requirements are yet to be finalised by the Basel Committee.
APRA's formal consultation process on the Basel III capital reforms, which began in September 2011, has involved a number of discussion and response to submissions papers, release of the prudential standards in draft form, speeches to industry fora and industry-wide public conferences. Consultations (except on the leverage ratio) concluded with the issue of final prudential standards and reporting standards in September and November 2012, relating to capital and counterparty credit risk respectively.
APRA's approach to the Basel III capital reforms was to adopt the Basel III rules text as globally agreed, with only minor exceptions in areas where APRA had for many years taken a more conservative approach. In addition, APRA did not adopt the concessional treatment available for certain items in calculating regulatory capital, for in principle reasons. Finally, APRA's implementation timetable was at the early end of the globally agreed timetable, fully consistent with the Basel Committee's view that, when they can, banks comply with the Basel III reforms as soon as possible. A number of other jurisdictions also adopted an accelerated timetable.
ADIs were able to meet the first two milestones without difficulty. As discussed in Chapter 2, ADIs held sufficient high-quality capital to meet the new minimum requirements for common equity (after regulatory adjustments) and, if current holdings are maintained, ADIs will also meet the capital conservation buffer when it comes into effect. Preliminary indications suggest that ADIs will also be able to meet the new leverage ratio, at least in its current draft form, without difficulty.
During the consultation process, APRA acknowledged that the stricter Basel III eligibility criteria for non-common equity regulatory capital is problematic for mutually owned ADIs (mutual ADIs). The stricter criteria improve the loss-absorbing characteristics of non-common equity instruments by requiring mandatory write-off or conversion to common equity if specific 'triggers' relating to capital levels or the issuer's viability are hit. However, conversion to common equity is not possible under a mutual corporate structure.
Nevertheless, APRA is strongly of the view that mutual ADIs should have access to non-common equity regulatory capital. Furthermore, the Basel III framework recognises that, in applying the Basel III capital requirements, supervisory authorities may take into account the specific constitutional and legal aspects of the mutual corporate structure provided that the substantive quality of regulatory capital is preserved. Accordingly, APRA has been working with the Australian Securities and Investment Commission (ASIC), mutual ADIs and their industry body, the Customer Owned Banking Association (COBA), to develop a solution. A core feature of the solution under discussion is a new instrument, a mutual equity interest instrument, which would only be created by a non-viability conversion and would have prudential characteristics similar to common equity. APRA intends to release this proposed solution for broader consultation in the latter part of 2013.
The Basel III capital reforms also include expanded disclosure requirements, based on a common disclosure template, that are intended to improve the transparency of regulatory capital and to enhance market discipline. This acknowledges the difficulties faced by market participants and supervisors during the crisis in assessing the capital positions of banking institutions and comparing these positions across jurisdictions. In April 2013, APRA began consultations on the implementation of the common disclosure template, as well as on the Basel Committee's separate requirements for ADIs to disclose qualitative and quantitative information about their remuneration practices and aggregate remuneration data for senior managers and material risk-takers. These capital and remuneration disclosure requirements came into effect, with a minimum of local adjustment, from 30 June 2013.
Strengthening liquidity requirements
The Basel III liquidity reforms are intended to promote stronger liquidity buffers and more prudent funding structures that will make banking systems more resilient to liquidity stresses. The reforms introduce, for the first time, two quantitative global standards: the Liquidity Coverage Ratio (LCR), aimed at strengthening the short-term resilience of banks, and the Net Stable Funding Ratio (NSFR), aimed at promoting longer-term resilience by requiring banks to fund their activities with more stable sources of funding. The original proposals envisaged that the LCR would come into effect from 1 January 2015 and the NSFR, from 1 January 2018. The Basel Committee has yet to finalise the specifications of the NSFR. The Basel III liquidity reforms also involve a strengthening of governance and risk management in relation to liquidity risk - the so-called qualitative requirements - consistent with the Basel Committee's revised Principles for Sound Liquidity Risk Management and Supervision.
In January 2013, after further calibrations, the Basel Committee released revisions to the LCR. These included discretion for national authorities to include a wider range of liquid assets in the definition of high-quality liquid assets and some refinements to the assumed cash inflow and outflow rates for calculating the 30-day acute stress scenario on which the LCR is built. They also included a revised timetable allowing a phase-in of the LCR from 1 January 2015.
APRA has proposed that all ADIs in Australia meet the enhanced qualitative requirements of the Basel III liquidity framework, in a way that is commensurate with the nature, scale and complexity of the institution. However, only the larger, more complex ADIs will need to meet the two new quantitative requirements. APRA released a consultation package on the Basel III liquidity reforms in November 2011. A second consultation package was released in May 2013, incorporating the Basel Committee's revisions to the LCR and addressing issues raised on those of APRA's earlier proposals that were not affected by those revisions. In this second package, APRA proposed not to exercise discretion to widen the definition of high-quality liquid assets but to adopt the revised assumed cash inflow and outflow rates. APRA also proposed to implement the liquidity reforms on the original agreed global timetable. The majority of large internationally active banks in other jurisdictions are already compliant with the LCR.
APRA is intending to finalise a new prudential standard for liquidity, and associated reporting requirements, by the end of 2013. ADIs will be subject to the qualitative requirements set out in the standard from 1 January 2014.
The unique feature of Australia's arrangements is the secured committed liquidity facility (CLF) that an ADI will be able to establish with the Reserve Bank of Australia (RBA). This type of arrangement is available under the Basel III framework to jurisdictions with insufficient high-quality liquid assets for inclusion in liquidity buffers. The CLF will be sufficient in size to cover any shortfall between the ADI's holdings of high-quality liquid assets and the requirements to hold such assets under the LCR. The availability of the LCR must, however, be balanced against the overriding objective of the Basel III liquidity framework of improving the self-reliance of banking institutions in liquidity management and reducing their recourse to their central bank at early signs of stress. Accordingly, ADIs will need to demonstrate that they have taken 'all reasonable steps' to improve their self-reliance, before recourse to the CLF. Further background on the intended approach of APRA and the RBA to the operation of the CLF was provided in August 2013 and APRA supervisors and liquidity risk specialists have been working closely with ADIs on a trial exercise for CLF applications (see page 26).
Domestic systemically important banks
The Basel Committee's framework for dealing with domestic systemically important banks (D-SIBs) was finalised in October 2012 and subsequently endorsed by the G20 Leaders. This framework, developed in conjunction with the Financial Stability Board, responds to the strongly held view of the G20 Leaders that no financial firm should be 'too big to fail' and that taxpayers should not bear the cost of resolution. The framework builds on, but differs in important respects from, the regime for global systemically important banks (G-SIBs) endorsed by the G20 Leaders in November 2011.
The G20 regime for G-SIBs focusses on large, internationally active banks with significant cross-border activities and it addresses the 'too big to fail' issue through higher capital requirements, strengthened supervisory oversight and robust recovery and resolution plans for G-SIBs. No Australian bank is on the current list of G-SIBs. The D-SIB framework recognises that there are many banks that are not significant at the global level but could, if they were to come under stress, have a critical impact on their domestic financial system and economy.
The D-SIB framework requires that D-SIBs have a greater ability to absorb losses as a going concern, but it differs from the prescriptive approach in the G-SIB regime. Under the principles-based approach, APRA will establish a methodology for assessing the degree to which banks are systemically important in Australia, publicly disclose information that provides an outline of the methodology employed and ensure that any D-SIB has higher loss absorbency, commensurate with its systemic importance and fully met by common equity.
APRA intends to publish the key elements of its D-SIB methodology by the end of 2013. The D-SIB framework comes into effect from 1 January 2016, at the same time as the G-SIB framework.
APRA's crisis management powers
APRA has a relatively robust set of legal powers to enable it to respond effectively to situations of financial distress. These powers were strengthened during the course of the crisis through legislative reforms, which covered various aspects of APRA's preventative directions and failure management powers as well as powers relating to its role in administering the two Financial Claims Schemes (for ADIs and general insurers). As part of an ongoing review of the efficiency and operation of financial sector legislation, APRA has worked closely with Treasury to develop proposals to further strengthen APRA's ability to respond effectively to financial distress. The proposals address some remaining gaps and deficiencies in APRA's crisis resolution powers and seek to align these powers more closely with international principles and practice.
The review culminated in the release in September 2012 of a Government Consultation Paper, Strengthening APRA's Crisis Management Powers, which seeks comments on a range of options to enhance APRA's supervision and resolution powers. The options canvassed in the paper aim to:
  • strengthen APRA's crisis management powers in relation to all APRA-regulated industries, including extending APRA's power to appoint a statutory manager to an ADI's authorised non-operating holding company (NOHC) and subsidiaries in a range of distress situations and providing APRA with the option to appoint a statutory manager to a general insurer or life insurer (and to its authorised NOHC and subsidiaries) as an alternative to a judicial manager appointed by the Court;
  • provide APRA with direction powers to require superannuation entities to take pre-emptive action to address prudential concerns;
  • simplify and harmonise APRA' regulatory powers across the various industry Acts it administers; and
  • make a number of technical amendments to enhance the effectiveness of these Acts.
No final position on these options has been reached.
Financial Claims Scheme
The Financial Claims Scheme for the ADI industry (also known as the Early Access Facility for Depositors) provides depositors with timely access to, and certainty of repayment of, their deposit funds up to a defined limit, currently $250,000 per depositor per ADI. In its capacity as administrator, APRA has undertaken a number of measures to ensure that the Scheme can be operated effectively in the event of an ADI failure. Prudential Standard APS 910 Financial Claims Scheme requires locally incorporated ADIs to generate deposit data and other information on a 'single customer view' basis. This is a fundamental requirement for the effective operation of the Scheme since it enables deposit balances to be aggregated across different protected accounts in the name of a single depositor. It is a prerequisite for accurate and prompt payouts and its importance was highlighted by the IMF in its recent Financial Sector Assessment Program review of Australia.
In November 2012, APRA released a consultation package with proposals to amend the prudential standard to include requirements in relation to payment, reporting and communications. Broadly, the proposals would require ADIs to be pre-positioned for two forms of payment: electronic funds transfer (EFT) and RBA cheque. An industry workshop on the proposals was held in December 2012 and further industry meetings were held in the first half of 2013. Submissions broadly supported the proposals. APRA finalised the amendments to the prudential standard in June 2013 and in August 2013 provided additional technical guidance to assist ADIs in complying with their payment and reporting obligations.
ADIs are required to comply with the prudential standard from 1 January 2014 unless, on a case-by-case basis, APRA grants particular ADIs an additional transition period (which cannot extend beyond 31 December 2015). Extensions have been granted where that would allow ADIs to make the necessary system changes more efficiently. APRA will regularly test the ability of ADIs to comply with all aspects of the prudential standard.
Banking Act exemption orders
A number of institutions that undertake 'banking business', as defined in the Banking Act 1959 (Banking Act), are currently exempted from the need to be authorised as deposit-taking institutions. Such exemptions are generally historical in nature. The exemptions cover Registered Financial Corporations (RFCs) and religious charitable development funds (RCDFs), which are funds that have been set up to borrow and use money for religious and/or charitable purposes. APRA has been reviewing the operation of these exemptions, in light of the IMF's recommendations from its recent Financial Sector Assessment Program review that APRA tighten the conditions for exemption from the Banking Act.
In response to the high-profile collapse of an RFC, the Government announced in December 2012 that ASIC and APRA would consult on a number of proposals to strengthen the regulation of finance companies that issue debentures to retail clients. The Government endorsed APRA's recommendation to establish a clearer distinction between debentures and deposit products offered by ADIs. Consistent with the announcement, APRA released a consultation package in April 2013 on its proposals to restrict the use of certain terms by RFCs, including the words 'deposit' and 'at-call', and to require all debenture offerings to have a minimum maturity of 31 days.
In that same package, APRA also proposed to remove the exemption order for RCDFs, so that RCDFs wishing to continue to accept retail funding would need to become either an ADI or an RFC or operate a managed investment scheme. After reviewing submissions and gathering further information about RCDF business models, APRA decided to revise this proposal and not require RCDFs wishing to offer products to retail investors to operate under a different regulatory regime. Rather, APRA proposed to apply additional conditions to the exemption order for RCDFs consistent with those proposed for RFCs. This revised approach was set out in a response to submissions paper released in August 2013.
APRA's review of the operation of the Banking Act exemption orders is not yet finalised. APRA has announced that any changes to the exemption orders will not take effect until specified dates in 2014; moreover, transition arrangements will be available to allow RFCs and RCDFs most affected by any changes to adjust their operations accordingly.
General and Life Insurance
General and life insurance capital standards
APRA's reforms to its capital standards for the general and life insurance industries are now complete. The objectives of these reforms were to make the capital standards more risk-sensitive, improve their alignment across regulated industries where appropriate and take account of relevant international developments. New prudential standards reflecting these objectives came into effect from 1 January 2013.
For general insurance, the reforms ensure that APRA's prudential framework adequately captures all known material risks, including asset/ liability mismatch, asset concentration, insurance concentration and operational risks. Among other things, the reforms make the general insurance industry more resilient to losses from multiple catastrophes in a single year.
For life insurance, the changes have been more fundamental. The previous dual reporting requirements for solvency and capital adequacy have been simplified and, by introducing the concept of a 'capital base' for life insurers, the capital framework for life insurers has been aligned with that for general insurers and ADIs. This improved alignment of capital requirements across the three industries also simplifies APRA's prudential framework as it applies to conglomerate groups.
The review commenced in 2010 and involved multiple rounds of formal consultation with industry and other stakeholders based on APRA discussion papers, technical papers, response to submissions papers and quantitative impact studies (QIS). In addition, there was extensive informal consultation conducted via industry-wide conferences and meetings with industry bodies and individual institutions. Throughout this multi-year project, industry consistently indicated a broad level of support for APRA's aims in undertaking the review and APRA refined its approach in a number of areas to address issues raised in submissions.
APRA finalised the new capital regime for general and life insurers in October 2012 with the release of a response to submissions paper outlining its final policy positions, accompanied by the final prudential standards. This was followed by the release of a final package specifying a revised reporting framework for the new regime (see page 88). To provide guidance on good practice and assist institutions in complying with the revised requirements, APRA released draft guidance and information material for consultation in September 2012. These documents were finalised in March 2013.
The impact of the reforms on overall capital requirements across both industries has been modest, much as APRA expected. In commencing the review, APRA's starting position was not that existing capital requirements for the general and life insurance industries were, overall, either too high or too low. The objective was to increase the risk-sensitivity of the standards and, consequently, capital requirements for individual insurers would increase or decrease according to their risk profile. QIS results during the consultation phase suggested that the reforms were likely to increase overall capital requirements across both industries but, as expected, insurers have taken steps to optimise their business and capital management strategies to offset potential impacts. This process of adjustment is probably incomplete. A small number of insurers were granted transitional relief to assist with their adjustment to full compliance with the revised requirements.
Other Harmonised Prudential Standards
Supervision of conglomerate groups
APRA made considerable progress on its proposed prudential framework for conglomerate ('Level 3') groups during 2012/13. Level 3 groups are groups (containing APRA-regulated institutions) that perform material activities across more than one APRA-regulated industry and/or in one or more non-APRA-regulated industries. The objective of this substantial initiative is to better protect the interests of beneficiaries (depositors, policyholders and superannuation fund members) by limiting the risks to an APRA-regulated institution — from contagion, reputation and operational risks in particular — that may arise from that institution's membership of a conglomerate group. The initiative also aims to ensure that both APRA and the group itself have a broader understanding of the financial and operational soundness of the group, irrespective of its structure and variety of operations. The global financial crisis has shown that the failure of one institution (regulated or not) within a conglomerate group may damage or even cause the failure of regulated institutions and that supervisory regimes must be able to capture the risks facing regulated institutions within such a group.
APRA's proposed Level 3 framework will assist it to ensure that its supervision adequately captures the risks to which APRA-regulated institutions within Level 3 groups are exposed and which, because of the operations or structures of the group, are not adequately captured by the existing prudential arrangements for stand-alone entities (Level 1 supervision) and single industry groups (Level 2 supervision).
The proposed framework has four components: group governance, risk exposures, risk management and capital adequacy. The overarching requirements are:
  • a Level 3 group must have a robust governance framework that is applied appropriately throughout the group;
  • the intragroup exposures and external aggregate exposures of a Level 3 group must be transparent and prudently managed;
  • a Level 3 group must have an effective group-wide risk management framework in place; and
  • a Level 3 group must have sufficient capital to support the risks of the entire group, including material risks that arise from non-APRA-regulated activities.
APRA's proposals were first outlined in a consultation paper released in March 2010. In response to feedback on that paper, extensive dialogue with potential Level 3 groups and detailed quantitative impact analysis, APRA refined its approach and released its proposed Level 3 framework for consultation in two stages. Eight draft prudential standards setting out requirements for group governance and risk exposures were released in December 2012. This was followed in May 2013 by a second consultation package and five draft prudential standards relating to risk management and capital adequacy. In releasing this package, APRA noted that potential Level 3 groups were unlikely to need additional capital to meet the proposed Level 3 requirements. Proposed reporting requirements relating to the capital adequacy of Level 3 groups were released in September 2013.
In order to provide sufficient time for Level 3 groups to make the transition to the new requirements, the effective date of the new Level 3 framework has been deferred to 1 January 2015. APRA plans to finalise the Level 3 prudential standards by the end of 2013 and the reporting requirements in the first quarter of 2014.
Risk management
APRA is committed to harmonising and consolidating its prudential standards across APRA-regulated industries, where appropriate. Consolidated 'behavioural' prudential standards are now in place for ADIs, general and life insurers and Level 2 groups for outsourcing, business continuity management, governance, and fitness and propriety. During 2012/13, APRA proposed to continue this process of harmonisation with a consolidated prudential standard that would ensure the consistent application of its risk management requirements across these industries. At present, some risk management requirements for ADIs are spread across a number of ADI prudential standards. As well as harmonising existing requirements, APRA has enhanced the requirements to reflect its heightened expectations for risk management. The new standard would apply to ADIs, general and life insurers, and Level 2 and Level 3 groups; it would not apply to the superannuation industry, where a superannuation-specific risk management prudential standard has recently been implemented.
APRA is also proposing enhancements to its governance prudential standard to ensure that risk management governance principles are aligned with the proposed risk management standard.
The most important of APRA's proposed risk management enhancements are:
  • the requirement that APRA-regulated institutions have a Board Risk Committee that provides the board with objective nonexecutive oversight of the implementation and ongoing operation of the institution's risk management framework; and
  • the requirement that institutions designate a chief risk officer who is involved in, and provides effective challenge to, activities and decisions that may materially affect the risk profile of the institution.
A discussion paper and drafts of the consolidated risk management prudential standard and revised governance prudential standard were released for consultation in May 2013. APRA is currently considering industry responses to these proposals and, in particular, how the standards can accommodate the circumstances of smaller, less complex institutions. APRA intends to finalise the standards by the end of 2013 but the standards will not be fully effective until 1 January 2015.
Managing data risk
The management of risks associated with data is crucial for APRA-regulated institutions because it can affect their ability to meet financial and other obligations to beneficiaries. The risks associated with the use of data, including data application, retention, storage and security, have become more significant with increasing automation and the criticality of data to decision-making. Hence, boards and management need to have an understanding of data management risks, including the collection, retention and use of data, and of the practices that would safeguard data quality across the data life-cycle.
In December 2012, APRA released a draft cross-industry prudential practice guide designed to assist APRA-regulated institutions to appropriately managing their data risks and targeted at those areas of data risk that APRA has identified, through its ongoing supervision, as areas of potential weakness. The guide is applicable to all ADIs, general and life insurance companies and APRA-regulated superannuation funds. The guide was finalised in September 2013 after consultation.
The Stronger Super reforms, announced by the Government in December 2010, aim to strengthen the governance, integrity and regulatory settings of the superannuation system in Australia. Key design aspects of the Stronger Super reforms were confirmed in September 2011. The reforms largely took effect from 1 July 2013 and are driving significant changes in the superannuation industry.
The Stronger Super reforms envisage a strengthening of trustee duties, the establishment of a new superannuation product ('MySuper') and the streamlining of superannuation transactions ('SuperStream'). MySuper products are characterised by a basic set of product features, including the fees that can be charged, designed to aid comparability across the range of MySuper products offered by the industry. SuperStream is intended to enhance the productivity and efficiency of the superannuation system. Its particular objectives are to make the processing of superannuation transactions easier, cheaper and faster, provide better information to trustees, employers and fund members, and facilitate consolidation of unnecessary additional superannuation accounts.
Under the reforms, APRA has also been granted prudential standards-making powers in superannuation.
Once the Stronger Super reforms were announced, APRA commenced a multi-year project to strengthen the prudential and reporting framework for superannuation. During the reform process, APRA has engaged extensively with a broad range of stakeholders on all elements of the new framework.
Prudential standards
APRA was granted power to make prudential standards in superannuation, for the first time, through the enactment in September 2012 of the Superannuation Legislation Amendment (Trustee Obligations and Prudential Standards) Act 2012. This has brought superannuation into line with the ADI and insurance industries, where prudential standards are the centrepiece of APRA's prudential framework. APRA's new standards-making power will strengthen the prudential oversight of trustees and enhance the protection of fund member interests.
APRA's formal consultations on prudential standards began with the release of a discussion paper in September 2011, which was followed in April 2012 with the release of a response to submissions and 11 draft prudential standards. APRA's approach was to seek to substantially harmonise standards on topics common to other APRA-regulated industries but to develop tailored standards on topics specific to superannuation. The superannuation standards addressing topics common to other APRA-regulated industries, and based on the respective cross-industry standards, were governance, fit and proper, outsourcing, business continuity management, risk management, and audit and related matters. The superannuation-specific standards covered investment governance, conflicts of interest, defined benefit funding and solvency, operational risk financial requirements, and insurance in superannuation. Submissions were broadly supportive of APRA's approach.
In November 2012, after extensive consultation, APRA released eight final prudential standards and three proposed final standards that were dependent on the passage of primary legislation. These three standards were finalised in June 2013 and the prudential framework applied in full from 1 July 2013.
APRA's approach is to support prudential requirements with guidance material that assists industry to meet the requirements, where needed. During 2012/13, APRA released draft superannuation prudential practice guides for consultation in two stages. In December 2012, it released 10 draft prudential practice guides that support the implementation of the new prudential standards and Stronger Super reforms. In May 2013, it released a further eight draft prudential practice guides on remaining areas related to these reforms. Eight of the original 10 prudential practice guides were finalised in July 2013 and the remainder of the drafts (including combining the three draft investment governance-related prudential practice guides into a single guide) will be finalised by the end of 2013. This material largely replaces the former Superannuation Circulars and guidance notes.
Reporting standards
In response to the growing size and complexity of the industry, and as part of the implementation of the Stronger Super reforms, APRA has substantially enhanced its superannuation data collection. The new collection implements the transparency and accountability elements of the Stronger Super reforms and supports the implementation of prudential standards, MySuper products and SuperStream. Overall, APRA expects that the new data collection will be of significant benefit to all industry stakeholders by providing greater transparency of investments and costs in superannuation and enhancing APRA's ability to supervise trustees and funds through broadening and deepening the statistics collected about the trustees and each fund.
A comprehensive consultation package on the new data collection was released in September 2012, resuming consultations that had been put on hold since 2009, when the Review into the governance, efficiency, structure and operation of Australia's superannuation system (Cooper Review), the precursor to the Stronger Super reforms, was announced. APRA received submissions on its proposals from a wide range of stakeholders and also conducted extensive informal consultation and industry roundtables. The consultation process culminated in the release of 32 final reporting standards in June 2013. In July 2013, APRA released drafts of three remaining reporting standards to support enhanced disclosure and reporting obligations for. These standards related to the MySuper product dashboard, product disclosure statement fees and costs, and investment performance. These standards, together with reporting guidance, were finalised in September 2013.
APRA is implementing the new statistical collection on a phased basis. Reporting requirements relating to MySuper products, prudential requirements and fund-level financial statements came into effect from 1 July 2013 and other requirements will be effective from 1 July 2014.
MySuper and eligible rollover funds
Under new legislation provisions in the Superannuation Industry (Supervision) Act 1993, enacted in November 2012, APRA is required to authorise trustees to offer MySuper products. APRA has consulted extensively on the proposed framework for MySuper authorisation and held a number of seminars, workshops and meetings with trustees and other relevant stakeholders to facilitate the authorisation process. Between December 2012 and February 2013, APRA released the final authorisation process including guidance for completing the authorisation form, a transition prudential standard and transition guidance. MySuper authorisation commenced on 1 January 2013 and MySuper products were offered from 1 July 2013.
Similarly, under the new legislation, a trustee intending to operate an eligible rollover fund from 1 January 2014 must seek authorisation from APRA. In June 2012, APRA began consultations on its proposed authorisation framework for eligible rollover funds, which is aligned with the MySuper authorisation process. The final framework, which included a transition prudential standard, was released in May 2013. The authorisation process for trustees wishing to operate an eligible rollover fund after 1 January 2014 commenced from 1 January 2013.
The focus of SuperStream is on the business processes associated with contributions, rollovers and the consolidation of superannuation accounts. The industry improvements it is seeking to foster are intended to produce benefits to members in the form of lower fees and improved processing timeframes. APRA has worked closely with Treasury and the Australian Taxation Office (ATO) during development of the SuperStream requirements. APRA and the ATO wrote to the superannuation industry in March 2013 to highlight some key steps that industry would need to take to prepare for the implementation of SuperStream. APRA wrote again in April 2013 to clarify its expectations regarding breaches of certain SuperStream requirements during the transition period until December 2013. APRA is also consulting on a draft data collection form that will assist Treasury in benchmarking and in evaluating the extent to which key outcomes of SuperStream have been achieved. This form will be finalised by the end of 2013.
Financial Sector Assessment Program
In October 2012, the IMF released the findings of its second Financial Sector Assessment Program (FSAP) review of Australia. The first review was conducted in 2005/06. The review focussed on the strength and stability of Australia's financial system and the quality of its regulatory architecture and financial supervision. Conducted largely in 2011/12 by a team of independent experts, the review involved extensive dialogue between the IMF and Australia's financial regulatory agencies.
Of particular relevance to APRA, the IMF team evaluated APRA's supervision of the banking and general and life insurance industries against the Basel Committee's Core Principles for Effective Banking Supervision and the International Association of Insurance Supervisors' new Insurance Core Principles, respectively. The evaluation process was rigorous, including a self-assessment by APRA, on-site interaction with the IMF team and a review of APRA's prudential framework and supervisory tools for ADIs and insurers. The IMF also conducted a macroeconomic stress test of the capacity of the Australian financial system to deal with severely adverse shocks and reviewed Australia's crisis management arrangements. A background paper on Australia's financial stability arrangements, prepared for the FSAP by the RBA and APRA, was published in September 2012.
The IMF's FSAP report provided a strong endorsement of Australia's regulatory framework and of the effectiveness of APRA's supervision. The main findings were:
  • Australia's financial system is sound, resilient, and well-managed. Major banks are conservatively run, well capitalised and profitable, and they are likely to withstand severe shocks;
  • however, a number of risks will need to be closely managed, including risks from a combination of high household debt and elevated house prices, reliance on offshore funding, and a highly concentrated and interconnected banking system;
  • the financial regulatory and supervisory framework exhibits a high degree of compliance with international standards; and
  • commendable steps have been taken to strengthen crisis management.
The report noted that APRA maintains a conservative supervisory approach. It takes a proactive, risk-based approach to bank supervision, with notable strengths demonstrated by its strong risk analysis, its focus on bank boards' responsibility for risk management, and its assessment of banks on a system-wide basis. The report also noted that APRA has made significant progress in updating the insurance regulatory regime since the first FSAP. In insurance, too, the risk-based supervision framework was judged by the IMF to be comprehensive, with established internal policies and processes to promote prompt and consistent supervisory action.
Within this positive overall assessment of APRA, the IMF recommended that APRA devote more resources to stress testing, introduce higher loss absorbency for D-SIBs (see above), intensify on-site supervision of bank liquidity and continue recovery and resolution planning. APRA is addressing each of these recommendations.
APRA welcomes the scrutiny of the FSAP process. The review provides the opportunity to take stock of Australia's regulatory arrangements, having regard to international 'best practice' principles and codes, in a more thorough and holistic way than might otherwise be the case. It offers independent challenge to domestic views from peer supervisors, including peers with experience in jurisdictions that were badly affected by the global financial crisis. Similarly, it provides an independent view to assist Government and authorities' discussions on priorities, desired resourcing and legislative or other reforms. From APRA's perspective, the review strengthens accountability, by providing a form of external 'audit' of APRA's performance that is difficult to achieve in other ways.
APRA-regulated institutions
Type of Institution Number
30 Jun 12
30 Jun 13
% change
Assets ($ billion)1
30 Jun 12
Assets ($ billion)1
30 Jun 13
Assets ($ billion)1
% change
ADIs2 174 172 -11 3,041.2 3,177.2 4.5
Banks 66 68 3.0 2,964.8 3,103.0 4.7
Building societies 9 9 0.0 221 22.7 2.7
Credit unions 92 88 -4.3 46.6 44.1 -5.4
Other ADIs, including SCCIs 7 7 0.0 7.7 7.4 -3.9
Representative offices of foreign banks 17 16 -5.9
General insurers 124 121 -2.4 1181 1181 0.0
Life insurers 28 28 0.0 237.5 256.7 81
Friendly societies 13 13 0.0 61 6.3 3.3
Licensed trustees3 209 190 -91
Superannuation entities4 3,675 3,379 -81 833.6 968.4 16.2
Public offer funds 173 161 -6.9 644.8 752.5 16.7
Non-public offer funds 141 125 -11.3 181.5 208.9 151
Small APRA funds 3,201 2,950 -7.8 1.8 1.7 -5.6
Approved deposit funds 77 66 -14.3 01 01 0.0
Eligible rollover funds 16 16 0.0 5.4 5.2 -3.7
Pooled superannuation trusts5 67 61 -9.0 87.6 99.3 13.4
Non-operating holding companies 25 25 0.0
Total 4,265 3,944 -7.5 4,236.5 4,526.7 6.8
1 Asset figures for end-June 2013 are based on most recent returns. Asset figures for end-June 2012 have been revised slightly from APRA's 2012 Annual Report in line with the audited returns received during the year.
2 The ADI classification does not include representative offices of foreign banks.
3 Licensed trustees do not include groups of individual trustees. As at end-June 2013, there were three such groups.
4 Superannuation entities comprise registered and unregistered entities. From 1 July 2006, all trustees operating APRA-regulated superannuation entities were required to hold an RSE licence and register their superannuation entities with APRA. A small number of unregistered entities are still in the process of winding-up or transferring trusteeship to an RSE licensee. The total for superannuation entities does not include uncontactable funds that are in the process of being formally wound-up or transferred to the Australian Taxation Office. As at end-June 2013, there were two such funds.
5 Pooled superannuation trust assets are not included in totals as these assets are already recorded in other superannuation categories.